The U.S. mid-term election is a contest between the roaring Republican economy and the President Democrats love to hate.

Republicans are defending their slim house and Senate majorities against Democrats campaigning almost exclusively in opposition to President Trump. Republicans are running on an excellent economic record and the President’s achievement in enacting most of his campaign promises. Both parties have geographical disadvantages, the Democrats in the Senate and the Republicans in the House; each side claims the other is unfit to govern. Republicans must also contend with the historical disadvantage of the party that holds the Presidency in an off-year election.

Over the entire nation looms the polarizing figure of Donald Trump. Love him or hate him, he is at the center of this election.

The electorate is particularly volatile this year. The combination of Mr. Trump in the White House and the de facto head of the Republican Party, whose combative style contrasts with a traditional and successful conservative agenda, has generated intense opposition from the Democrats and allied organizations.  The contentious nomination of Brett Kavanaugh to the Supreme Court, now approved, has excited passions and voting intentions on both sides making the elections difficult to score.

Three political scenarios and market implications

 

Democrats take the House, Republicans retain the Senate  

This is the current most likely outcome. The polling site FiveThirtyEight has the odds of the Democrats taking control of the House at 81.4%. RealClearPolitics (RCP) agrees but shows a razor thin edge of a 24.5 seat gain, just two over the needed 23. The margin has declined from 30.5 in mid-September.

Republicans have, according to FiveThirtyEight, a 79.9% chance of retaining power in the Senate.  RCP seconds that, showing a two seat improvement to 53 Republicans and 47 Democrats.

Markets have viewed the Democratic House/Republican Senate scenario with equanimity throughout the campaign. Divided power is the norm in the United States. Complete control of Congress and the Presidency in one party, as it has been since the inauguration of Donald Trump in January 2017, is uncommon.

Divided government often means that few new policy initiatives take place. That would be especially true now in the polarized political atmosphere in the American capital.

With the economic and fiscal programs of the administration fueling a strong economy and excellent job market, stasis is good.  As this outcome is the highest possibility it is largely priced in and would produce limited movement in the equities, the dollar or credit markets.

One caveat to this complacency is that if the Democrats win the House by a large margin they might be emboldened to begin various investigations of the President and impeachment proceedings. This could paralyze the administration’s ability to govern successfully. Indeed that would be its purpose.

While the Democrats would not be able to get their agenda through the Senate or past the President’s veto their ability to force the Republicans to compromise on many items, particularly on budget bills which fund the government, would mean few if any new endeavors from the President Trump or the Republicans.

Democrats take the House and Senate

The odds here are 81.4% for the Democratic House and 20.1% for the Senate, also from FiveThirtyEight.

This would be the least favorable result for the markets. With both Houses of Congress the Democrats would be able to push its agenda to the President’s desk and to force many of their policies into law. Though the President could veto any legislation, the pressure to compromise and approve specific items, particularly on the budget required for the government to function, would be enormous. As the Democratic Party’s interests have moved steadily leftward their potential negative impact on markets and economic activities have grown. 

The probabilities are that equities and the dollar would fall and yields would be stable or lower.

Republicans keep the House and Senate

The scoring on this is 18.6% for the Republican House from FiveThirtyEight and 79.9% for a Republican Senate. Currently the least likely outcome, though by a small margin, it would be the market favorite. More so because it would be unexpected. 

Republican economic tax and fiscal policies are generally seen by as more conducive to economic expansion and consumer and business prosperity. Were this to happen the dollar and credit yields would rise, perhaps sharply, anticipating stronger economic growth and more leeway for the Fed to continue its tightening cycle? Equities might be torn between the prospect of better growth and higher rates.

Political predictions

Republicans currently control both houses of Congress by narrow majorities. The House 235 to 193 and the Senate 51 to 49.  If the Democrats can gain two seats in the Senate they will obtain control. The margin in the House is 23 seats.  

It will be difficult but not impossible for the Democrats to win the Senate, but it would likely take a large Democratic wave. Of the 35 seats for election ten are considered competitive, six currently held by Democrats and four by Republicans.  The problem for the Democrats is that all but one of their six seats are in states that were won by the Republican Donald Trump in 2016, many by wide margins.

The House outcome is far harder to assess. The districts are far smaller spread across the entire country and many, even among the competitive ones, receive little polling.  Historically the President’s party loses seats in an off-year (non-presidential election).  The average loss is 25 seats but the spread over the last 72 years has been from gaining 8 seats in 2002 to a loss of 63 in 2010. 

The difficulty lies in the spread of potential seat changes. RealClearPolitics has the range from 10 to 39. The needed gain of 23 for the Democrats to obtain control of the House is nearly at the center of the probability range.  Ownership of the House could turn on a very small number of seats scattered across the country, each one a contest to itself.

Changes to watch

The election has tightened considerably in the past three weeks.  The bitter Senate confirmation hearing for Supreme Court Justice Brett Kavanaugh appears to have energized Republican voters. Democrat enthusiasm was already high.

Generic vote

This polling question asks whether a generic (no specific individual) Democratic or Republican candidate is preferred.  This statistic is useful in tracking changes in electorate attitudes but it does not equate to a numerical preference for one party.

Historically this poll has overstated Democratic approval in all but two elections since 1966. Only in1990 did the actual Democratic vote outperform that predicted, in 1986 it was equal to the prediction. The average overstatement has been 7.2%. In practice this means that a score around there is probably indicating an electorate nearly tied in preference.

Republicans have moved closer in this ‘generic vote’. In early September the spread was 9.5 points, it is now 7.3 (10/14/18).

House races

Republicans have cut the number of likely seat losses from 31 in mid-September to the above noted 24.5 as of this writing.

Senate races

Republicans have gone from no gains in the Senate to plus two in the RealClearPolitics assessment. Three of the Democratic held seats in states won by Donald Trump, Florida, Indiana and Montana have had no new polling since the fight over approval of Brett Kavanaugh to the Supreme Court. In races in Missouri, Arizona and Nevada the vociferous Democratic opposition tactics and the eventual Republican victory seem to have given Republican candidates a boost. New surveys may indicate if that is a general trend.

U.S. Congress

All 435 members of the U.S. House of Representatives are up for election as they are every two years. One third of the Senate is also running for re-election; senators serve six year terms, representatives two. 

Power in each chamber of the Congress depends on a simple majority, 51 senators or 218 representatives. Each body is independent. Bills must pass both houses and be signed by the President to become law. The majority party controls committee chairmanships, the political agenda and holds most of the power to enact laws.  The contest is over control of each chamber.  Two Senators serve from each of the 50 states. Representatives are determined by population. 

Political map: Senate

Political map: House

Political map: generic vote

 

Sites: RealClearPolitics, FiveThirtyEight  

 

Information on these pages contains forward-looking statements that involve risks and uncertainties. Markets and instruments profiled on this page are for informational purposes only and should not in any way come across as a recommendation to buy or sell in these assets. You should do your own thorough research before making any investment decisions. FXStreet does not in any way guarantee that this information is free from mistakes, errors, or material misstatements. It also does not guarantee that this information is of a timely nature. Investing in Open Markets involves a great deal of risk, including the loss of all or a portion of your investment, as well as emotional distress. All risks, losses and costs associated with investing, including total loss of principal, are your responsibility. The views and opinions expressed in this article are those of the authors and do not necessarily reflect the official policy or position of FXStreet nor its advertisers.

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